Comparing the performance of a fund to its sector is not necessarily a reliable way of checking how it is performing, as FE Trustnet outlined in a recent study.
This is particularly a problem in the IMA UK All Companies sector, which contains funds with a variety of different strategies.
A better way of judging the performance of a fund is to compare it to its benchmark, as long as investors make sure that the index chosen by the management team is appropriate.
A fund’s alpha indicates the extent to which it has beaten that benchmark, giving investors a better idea of whether the manager has outperformed the index they invest in.
By looking at data over five years it is possible find those that have consistently outperformed in falling and rising markets.
Data from FE Analytics shows that Liontrust Special Situations has added the most value to its benchmark over the past five years on an annualised basis, at 13.61 per cent.
Liontrust Special Situations invests throughout the UK market, with 44.79 per cent of the fund currently in the FTSE 100 and 21.47 per cent in the FTSE 250, making the FTSE All Share a reasonable benchmark to use.
The fund also has 19.73 per cent in the AIM market, which does not form part of the All Share, and this helps it to produce returns that are less correlated to the benchmark.
It has made 114.29 per cent over the past five years, pushing it close to the top of the performance tables.
Performance of fund vs sector and benchmark over 5yrs
Source: FE Analytics
FE Trustnet looked in some detail at the reasons for its success in a recent article.
The five crown-rated CF Lindsell Train UK Equity portfolio has the second-best alpha score, of 11.99 per cent.
It requires a steep minimum investment for anyone who wants direct access, but it is available for a more reasonable fee through a number of platforms.
Ed Legget’s (pictured) Standard Life UK Equity Unconstrained fund comes third, with an annualised alpha of 11.54 per cent over the past five years.
However, the portfolio has the highest beta of any in the sector over that time – 1.29 – meaning that it is highly sensitive to the market, with a tendency to outperform strongly when the market is going up.
The Liontrust fund has a beta of 0.52 and the Lindsell Train fund 0.62, demonstrating that they are less correlated to the overall direction of the market and more likely to outperform when it is falling.
Annualised alpha over 5yrs
| Name | Alpha | Rank |
|---|---|---|
| Liontrust Special Situations | 13.61 | 1 |
| CF Lindsell Train UK Equity | 11.99 | 2 |
| Standard Life UK Equity Unconstrained | 11.54 | 3 |
| Unicorn Outstanding British Companies | 11.13 | 4 |
| Cazenove UK Opportunities | 10.42 | 5 |
| L&G UK Alpha | 8.17 | 6 |
| Schroder Recovery | 8.09 | 7 |
| Investec UK Special Situations | 6.97 | 8 |
Source: FE Analytics
It is noticeable that funds with a mid cap bias do relatively poorly in terms of adding alpha to their benchmark, the FTSE 250 index.
Over that time the best score is the 6.89 per cent of the Royal London UK Mid Cap Growth fund, which puts it behind 12 all-cap funds.
Franklin UK Mid Cap is the second-best mid cap fund over that time, having produced alpha of 5.31 per cent.
However, over three years the Neptune UK Mid Cap fund – which was only launched in December 2008, so does not have a five-year track record – has produced annualised alpha of 12.15 per cent, putting it fifth in the sector and well ahead of the second-best mid cap fund, F&C UK Mid Cap, which has produced alpha of 7.7 per cent.
Many of the managers with the best figures, both in terms of alpha and in terms of absolute performance, are those with a flexible remit who have allocated a large part of their portfolio to the mid cap sector.
Standard Life UK Equity Unconstrained is a fund to have benefited from doing this: our data shows it currently has 61 per cent in the FTSE 250.
Managers can outperform their peers with good sector-allocation decisions of this type, which is a part of their job, and it is something investors should be aware of.
It does not make comparisons with a benchmark illegitimate until it becomes apparent that a fund as a matter of policy is avoiding certain areas of the market and concentrating on others, at which point it is better to look at the benchmark for those segments.
There are some funds that are hard to assign to any particular benchmark, however, such as MFM Slater Growth.
This five crown-rated fund does not buy into the FTSE 100, but concentrates on the mid and small cap sectors.
This makes it hard to justify comparisons with the FTSE All Share, which is dominated by the larger end of the market, but also to the FTSE 250, given the high weighting to smaller companies.
However, for the record the fund has added 10.78 per cent of alpha to the performance of the FTSE 250 over five years and 10.98 per cent to the performance of the FTSE Small Cap.